Smart Borrower Blog

A Look At the Bankruptcy Abuse Prevention and Consumer Protection Act


Jan 13th, 2009 @ 10:00 AM by Alden Smith


In 2005, Congress passed the Bankruptcy Abuse Prevention and Consumer Protection Act.  This Act was heavily pushed by the credit card industry. Under the Act, households must file for bankruptcy under Chapter 13, which requires that they pay unsecured debt.  Before the passing of this Act, households could file under Chapter 7, which meant that they could write off unsecured debt, thus freeing up money to apply to the home mortgage to avoid foreclosure.  This is no longer the case.

Now, three researchers at the Federal Reserve Bank of New York are saying that this legislation has shifted the risk from credit card lenders to mortgage lenders.  The end results are a rise in foreclosures across the country.   These researches asked “Is it just coincidence that the surge in sub prime foreclosures that has rocked financial markets came right after the bankruptcy reform in 2005?  Is that surge just about falling home prices, bad mortgage decisions and weak economic conditions?”  Their answer is an emphatic “no and no.”

Donald P. Morgan, a research officer at the New York Fed, who was lead author of the paper, said in a phone interview that he was 99% confident that this piece of legislation was the major reason for the foreclosure crisis and the falling housing prices.  Morgan went on further to say that “Before the reform, over indebted households might file bankruptcy and get rid of their credit card debt, and that would free up income to pay the mortgage.  The new law blocks that escape route and forces better-off households to continue paying credit card debt, which make it harder than before to continue paying the mortgage.”

The reasoning behind that law was to prevent people with assets and an actual ability to pay from walking away from unsecured debt.  Put in place to protect the bankruptcy system, the measure has been a complete failure, according to many experts.   Treasury Department economist David P. Bernstein wrote in a recent paper that by increasing the dollar value of assets susceptible to default, it has weakened many of the financial institutions that sought the new law in the first place.

Certainly, this is only one piece of the puzzle.  I don’t feel the biggest issues are bankruptcy law.  The entire economy is in shambles, and it can only be placed at the feet of those whose over-consuming greed have put us in the position we are in.  Wall Street, sub-prime mortgages, “no document” loans, and over-consumerism – all these things have put the economy in the position it is in.  There is no transparency in many lending and financial institutions, and there is no regulation that can oversee the people that are making huge fortunes and doing so in unethical ways.  One only needs to look no further than to Bernie Madoff to realize this.   We have enjoyed good times, certainly.  Now that times aren’t so good, it is clear to everyone that responsible change, responsible government, and responsible lending institutions are the order of the day.  This also includes the credit card companies, and I have to think that lending Institutions that can for little or no reason raise APR rates to 25% need a good looking at, also.  I feel that the credit card industry is to blame for a lot of the ills of this country.  Thinking that, I also have to look to the people that took advantage of the many free and low introductory rates these companies offered, and went on a spending spree that has put this country into an economic tailspin.   You cannot blame one industry without blaming the people it serves.  Seems to me, common sense has left the building.  Someone please turn out the lights…

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